From short, to long, back to short.....

Yes, I have split personality - one day I am long, the next I am too scared and take profit.....but that's the conditions for high frequency macro fund like myself - today's issue:

The Merril Lynch liquidation of Bear Stearn High Yield Fund. Merrill did not agree terms with Bear on the credit and will initiate liquidation in an auction today. I do not, per se, expect any issues in placing theses papers, what concerns is more the follow on effect from this. Should these papers trade below their present level it could have serious implication on the ABX Index, which already trades below February low!!!!!!!

http://www.markit.com/information/affiliations/abx.html

Something is wrong in high credit land. Yes, the central bankers tells me their is no spill-over from sub-prime, but having two major investment banks fighting is out via media and auctions does not exactly tell me things are smooth sailing either?

I am still working hard on the liquidity index and spent yesterday reading excellent piece by Soc. Gen's Research team, Stephen Gallagher & Aneta Markowska, titled: EcoInsight, Global liquidity cycle ebbing it strikes me doing one index would probably be too ambitious.

My solution should include: central bank action as measured by real Fed Funds plus minus 1 std. dev. (upper vs lower is 0% at 4%) making the present 3% towards higher end of average.

That's the easy part, now I need to find some way to expand on traditional measures, but as everyone used VIX, credit spreads, and leverage I need to find something different. (note: I get research from probably eight investment banks each morning - and EVERYONE has the same message day-by-day which leads me to think it's value is ZERO!)

So...I need some inspiration if any of you can help?

My present theme, if I have any, would be: Some disappointment with US data next few weeks, which will take yield back down and T-bonds to minimum 108-ish or even 111 16/32 ish.

This should lead US dollar lower, stock markets slightly down, and yield lower. I have felt all year that fixed income was the REAL STORY. The sovereign wealth funds have made big macro difference, so their action needs to be followed. Having sold April-May it seems sovereign are again on the bid for fixed income.

Short-term the lack of new data this week makes sub-prime the front news story.

The auction itself should be ok, but the follow up and the renewed focus on the sub-prime area should lead to some nervousness, this comes at a time, where momentum is coming out of the market on the indices and where we have had a few earning warnings.

The investments banks tells me to be fully loaded during the summer and some evidence from "counting" also indicates this summer could be good:

Since 1914 - the average return from the mid-term year low (2006) to its next peak pre-election is 50% which should mean Dow sees 16.000!

This type of "counting" makes for interesting analysis, but the concept of history repeating itself in mirror image is a stretch as fundamentals and micro changes simply is not the same every four years.......but point being: from analytic point of views there is not really ANYTHING to worry about ... liquidity is getting tighter, long-end has reacted with steeper rates, but private equity and other leverage players will tell you Fed model is still saying equity is cheap.

I do however note that New Zealand does not like the currency being part of global gambling, not that they have succeeded in containing further gains, Brazil have instituted more restrictions and there is yet another rumour of hikes in China.

End of the day, we will not know what and when this paradise like scenario changes but right now the micro changes are making noises which makes me defensive.

Present positioning:

FX: Short EURCHF, new position from today. Took profit in long EURUSD (even though all of above is positive EUR.USD).....

FI: Bought T-bonds, new position from today.....reason above.

Equity: Went from 2 units long Dax to 1 unit short this morning. Stop 1 ATR away.

Commodities: Long Crude on the break in August contract.

Monday morning quarterbacking

A few days ago I was concerned on the TREND change in global rates, interesting piece in The Times by Kaletsky this morning, he names four major factors in the low yield environement;

1. Regulatory and account pressure on pension funds to shift their portfolio from equities to bonds.

2. Japanese savers desperate need for yield ...

3. Currency manipulation by Asia

4. Sovereign Wealth Funds

1+2 is still in place, so 3+4 may have changed! MAY? Are you freaking joking me?

China sold 5.8 Bln. US of government bonds NET last month - 1st drop since October 2005. Mind you they still go an easy 414 bln. US or 10% of the total outstanding debt! (foreigners own more than 50% of US debt overall)

Sovereign Wealth Funds, SWF, have 2.5 trln. USD under management according to Morgan Stanley report - same institution says the move FROM fixed income to equties will increase long-term yield by 30-40 bp.

But.. here we re-enter the real world, there is serious evidence June-September Quarter is very seasonally positive for bonds:

Measured by 10-y notes generic yield the move in bp direction has been since 1995:
-2.26 bps for June-September, 1.47 bps for March-September

This ties pretty well with CONSENSUS (If you could hate words Sociademocratic & consensus would top my list!) that Core-Inflation will be waning over the course of the summer.

More interesting for us contrarians is the move SEC to remove the Tick Test, or the short-sell rule of NYSE. The rule says short sellers can not go short a stock they dont own unless it has been paid. This maybe hubris ?

The most intesting topics though is how New Zealand again intervened to no luck. However despite being libertarian, I firmly believe that when Central banks decides to make a stand, the do make a stand ... remember 2000 and EURUSD intervention ? That the market tests them is only natural, ultimately ALL central banks and politicians who believe they can CONTROL the markets will fail and pay the price.

I note the increased tension in the Middle East; Barak tells Sunday Times he will launch a military offensive against Hamas in the Gaza Strip. (Sorry for taking you back to the REAL world!)

I am humbled, which is hard yes, by how the performance of carry-trading continues.

Table I: G-10 carry-basket ( 916 bps ...Sharpe 1.65%)

Money machine? Sure does look like it! Well something will have to give - do not miss week-end press on how Bear Stearns Internal Hedge Fund is strugling to find new investors. Merril Lynch sezied 400 mio. in assets and are looking to auction these off later in the week!!!!

Nice colleagues!

Well, bottom line here; data is too light to change the direction of late last week, so bar some new escalation in Middle East and no spill-over from Bear Stearns Hedge Fund - the carry-traders will be in place. I am slightly disappointed about market reaction to Friday, but I am sure most people by Wednesday will think like me; Why fight the windmills?

Fund is short US dollar vs EUR. Long NASDAQ. Very little VaR at play while we recover from beig so wrong last week. MTD: +14 bps. YTD: 43 bps.

Steen

Another one bites the dust...and another one

Friday, bloody Friday....no it's not U2 and Queen I am refering to but my believe in new paradigm and my experiences in trading on Fridays!

CPI-core saved the day and market is flying into YIELD again! My generic modelsin carry are up 872bps in G-10 YTD and EMG carry passed 1009 bp for the year!

We exicted all our core views and turned long EURUSD and NASDAQ as our model indicates we could in the 5th wave for equities.

The fixed income market seems in balance and market is clearly short stock weightings. We will add some more on Monday should levels hold. NOw we are back at watching housing markets and I got feeling that the speculative areas have seen solid buying recently. I noticed Icahn bought in Florida real estate!

MTD: +5 bps, YTD 34 bps. Not good. Nice week-end

"You are not, you are not, not alone" - The Police

Well I feel alone! Market is ever more bullish day by day. I have the sense of giving up and going long the whole market and just join the "no worries" camp.

Yes, fixed income have rebounded, the 10-year yield is down from 5.30+ but its still up more than 40 bps in the last one month.

The Central Banks continues to hike, today Swiss National Bank move rate 25 bp and move up their inflation expectations, but still no one cares.

The think to watch today is the reaction to Goldman Sachs trading - they report better than expected earnings but in pre-markets the stock is down a 2.0-2.5% @ 228 from 233.64 close. Why? Only the Gods knows, but GS impact on S&P Index is pretty large as seen in the below chart.

Table I: Goldman Sachs & S&P cash index

I am hard at work at designing new monetary index, which includes todays new "liquidity" generators, credit derivatives and similar structures.

I can not put firm, factual gauge on it, but I am getting feeling the move in the long end of the curve is having some pretty dramatic impacts on the credit culture or the lack of it.

There is need to monitor the policy makers steps on private equity, hedge funds, credit policies etc. Most major changes in the market direction is driven from these policies, or rather the mistakes they create.

Yesterday's bill from senior Senators on China is one of those things which seems to finally get some political traction, if so... it could make world very different place.

CPI next market taking a slow day but keep close eye on Goldman Sachs.

The fund:

YTD: +105 bp, MTD: +76 bp,

Market Bias:

FX: Long US vs NZD, AUD and EUR

Fixed Income: Neutral from short.

Equities: Net short S&P again from 1530.50 with one ATR stop

Options: Very long JPY calls - and VERY wrong..

Steen

Learn to bear bravely changes of fortune. Cleobulus - MAJOR change in market from last five trading days..

We had major move overnight, again in, fixed income in the US, trigger seems to have been Mr. Greenspan comments, but truth being the 10-y bond auction yesterday was horrible..Indirect bid, which translates to foreign central banks, was a mere: 10.98% versus an average of 15.2% in the last five auctions. It the lowest since March 2006.

Credit default swaps linked to 20 bonds rated BBB- fell 2.5% to 62.38. The most interesting being that its REAL RATES which is rising across the world, as inflation expectations remains contained and even indicates lower inflation in the coming months. Interpretation: Fixed income players simply wants more RISK PREMIUM to take risk! This is major change - as the last three years has seen nothing but lower yield and volatility.

Table 1 10 y. US generic yield

It is MAJOR event when 18 years of trend is broken. Being in bear market for fixed income have serious implications for how cash-flows and future earnings. Anyone with MBA knows how going from zero funding rate to 4% massively changes the cash-flow analysis. Steeper yield curve also make long-term financing, read Private Equity, more expensive and generally there is less of the credit available as the natural consequence of higher yield, is more people fall behind on their credits increasing defaults.

The move yesterday is even more significant from trading perspective as it happened in vacuum of new data!

To illustrate the magnitude of this move I had my associate Carl F. Beck plot the last 1200 trading days changes PERCENTAGE wise day-to-day:
Std. Deviation: 1,29%Average: 0.03%

The change from Wednesday to Thursday last was 3.34% or about 3 std. dev. Changes of 2.9% or above have only happened for 24 trading days.

There is more pain in the system potentially as every single central bank in the G-10 is looking to tighten their monetary policy further.

Price Matrix for future moves by Central Banks (Source; Lehman Brothers)

From strategy point of view we are:

Short US Fixed income, t-bondsLong puts on Dax Julyshort EURUSDShort SilverShort S&P SeptemberShort NZD, and AUD

We have some concern at the disconnect on carry trading, which despite the new rates regime have not moved, however we feel that the size and direction of global real rates will eventually take it toll on carry trading. AUD/JPY and AUD/CHF are by far the biggest positions in the market right now.

Generic Carry model going from strength to strength (note the excess return profile and Sharp! Unreal)

Conclusion

This is crunch time - how the market reacts to this new higher regime next few days important. Keep an eye on mortgages, CDO's and other highly leverage strategies, if this get real legs it could mean excessive move in yields, but risk as always being tomorrow we can not even remember we had the scare.
Be careful out there

Med Venlig Hilsen Yours Sincerely Steen Jakobsen, Chief Investment Officer, Saxo Fund Management Saxo Bank A/S -London 40 Bank Street, 26th Floor Canary WharfLondon E14 5DAPhone: +44 (0)207 151 2010 Fax: +44 (0)207 151 2001Please visit our website at: http://www.saxobank.com/

Chart update 1 year FX vol & 30 y yield

30 year yield is making move on the upside, the big question presently; will the recent move in yield be enough to "scare" leverage?








This is one amazing trend. It just continues lower and lower, but there seems to be some change recently, pause or for real change?

The answer if blowing in the wind...

Difficult, difficult times right now - The major surprise being how US interest rates have moved significantly higher, the move last week is equivalent to a 5 std. deviation move, or as a friend of mine put it; It is something which should happen every 7.000 years!

The fixed income market is now probably close to neutral, which means there is not going to be major bounce from short covering, and with 10y yield flirting with 5.23% (high last week) it is either closing the eyes and buy the 10 y- notes or hang in there and see if 5.26-5.27% goes and lead yield even higher.

The "design" of the move in the yield is utmost interesting as;

1. It's not due to a move up in inflation expectatations
2. Its high lights how dependent the US fixed income market are with rest of world.

Inflation expecatations have moved barely 10 bps while US yield is up 50 bps!

The foreign central banks are staying away from the US fixed income market, no they are not net selling, but they are not net buying anymore, which means short-end of curve which have priced in small move by Fed will be stable while long-end should correct higher again... meaning steeper yield curve......

We are presently slightly short US T-bonds as the test continues in week of relatively positive US data; retail sales and CPI....

More tomorrow..

Steen